Managers can manipulate earnings by

Managers can manipulate earnings by exercising discretion over accounting choices
(accrual earnings management) or by engaging in real economic activities (real earnings
management) with the intention to mislead stakeholders on the underlying economic
performance. Bruns and Merchant (1990) report that a vast majority of the 649 managers
in their survey use at least some methods to manipulate short-term earnings and that
there is a high tolerance for changing or manipulating operating decisions or procedures.
They argue that although managers view operating manipulations as a kind of
“victimless crime”, customers or even the corporation may be victims[2]. Bruns and
Merchant (1990) also find it is rare that companies provide complete disclosure on the nature of sales and profits when these are borrowed from the future. The prevalence
of real earnings management is highlighted in a more recent survey and interview of
400 executives by Graham et al. (2005). It is documented that 80 percent of the surveyed
executives state that they would decrease R&D, advertising, or maintenance
expenditures to hit earnings targets, even though these actions could harm the firm
value in the long run. Graham et al. (2005) also indicate that financial executives are more
willing to manipulate earnings through real activities than to make within-GAAP
accounting adjustments (i.e. accruals) for delivering earnings.